The man who called the world’s best debt rally in the first quarter says the gains aren’t over yet for Russian bonds.
Investors are still demanding about 1 percentage point too much to own the nation’s dollar notes compared with U.S. Treasuries, according to Jan Dehn, the head of research at Ashmore Group Plc. The spread fell by 143 basis points in the first three months to 409 as Brent crude stabilized above six-year lows and a cease-fire took hold in eastern Ukraine.
Along with these two factors, investors who dumped Russian assets in 2014 have returned as the Bank of Russia won their trust by hoisting interest rates to an 11-year high of 17 percent in December to shore up the ruble, according to Dehn. With projections that benchmark borrowing costs will fall to 10.8 percent by year-end, analysts from Rogge Global Partners Plc to Ram Capital SA are joining Ashmore in saying there is further scope for bond-market gains.
“There is still value in Russian assets, both local and external, but not nearly as much as before,” Dehn said in e-mailed comments Tuesday. “I like the decisive Russian macro adjustment of weakening the ruble and raising interest rates and the willingness to take tough decisions.”
Dehn made his bullish case for Russian debt on Dec. 18, two days after the central bank lifted rates by an emergency 650 basis points at the peak of the market turmoil as bonds and the ruble sank to a record low. Since then, the ruble has surged 17 percent and the yield on five-year government OFZ debt has tumbled 6.11 percentage points as the central bank started unwinding the increase.
The local bond rally was a “big surprise to many and I guess most investors have been positioned on the wrong side,” Michael Ganske, who helps manage $6 billion as head of emerging markets at Rogge Global Partners Plc in London, said by e-mail Tuesday. “Investors got sucked into the Russia scare with oil plummeting, the Ukraine crisis heating up and further sanction talk.”
Russian ruble bonds handed investors a 16 percent return in dollar terms in the first quarter, two times the return for the Dominican Republic, the second-best performer, data compiled by Bloomberg show. The country’s local debt has climbed 7 percent in March, the biggest monthly increase since at least 2005, according to JPMorgan Chase & Co. indexes.
While ruble debt will still be among the “better-performing local markets” in the second quarter, Ganske said he expects “single-digit” returns. Ogeday Topcular, a Geneva-based money manager at Ram, which oversees $250 million in emerging-market debt, said bonds will rally in the short-term, assuming that the Ukraine conflict doesn’t flare up and oil avoids steeper declines.
As Russia’s borrowing costs fell, the Finance Ministry has returned to local debt markets as it seeks funds to plug a budget deficit it projects will swell to 3.7 percent of gross domestic product this year, the most since 2010.
The Finance Ministry will boost its second quarter borrowing target 67 percent to 250 billion rubles compared with its plan for the first three months of the year, according to a statement on its website Tuesday. The ministry aims to sell almost double the notes with maturities of up to five years that it projected in its first quarter schedule.
The first auction this quarter saw only 4.68 billion rubles of floaters due January 2020 sold out of 15 billion rubles offered. The finance ministry will also offer 5 billion rubles of January 2028 fixed-rate bonds later today.
The ministry’s projection for borrowing about 1 trillion rubles this year “seemed absolutely impossible” before the rally, Dmitry Dudkin, the head of research at Uralsib Capital in Moscow, said by e-mail on Tuesday. “Now we’ll have to see.”
The price of crude oil, Russia’s main export earner, is down 12 percent from this year’s peak in February and further declines could hobble the recovery. Brent was little changed at $55.12 per barrel as of 2:17 p.m. in Moscow on Wednesday.
Credit Suisse Group AG is structurally bearish on the Russian currency and cited the possibility that oil will weaken further as Iran and world powers work toward a nuclear deal that may lead to the OPEC member increasing crude exports.
“The ruble remains vulnerable to oil moves,” analysts Nimrod Mevorach and Amos Ruiz wrote.
After Russia’s surprise rate increase on Dec. 16, the spread between the country’s Eurobonds and Treasuries widened to 702 basis points, the most since 2009, JPMorgan indexes show. That was 135 basis points more than Senegal.
“Russia sovereign blended spread should be well below 300 basis points,” Ashmore’s Dehn said. “Obviously, there will be setbacks, but the broad direction of travel is positive.”